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(50 points in total)

1. (15 points) Suppose that Facebook is selling at $75 per share at the beginning of 2016.

You are bullish on Facebook stock, and want to buy 1000 shares on margin. The initial

margin is 50%. You can borrow from your broker for one year (till the beginning of

2017) at an interest rate of 6%.

(a) How much do you invest using your own money? How much do you need to borrow

from your broker? (2 points)

(b) Assume that Facebook pays a year-end dividend of $2.5 per share. Assume that you

dont get any margin call during 2016. What will be your holding period return in 2016 if

the stock ex-dividend price of Facebook

(i) goes up by 10%

(ii) is still $75

(iii) goes down by 10% during the next year? (6 points)

(c) How low can stock price fall before you get a margin call, if the maintenance margin

is 25%? (2 points)

You are bearish on Facebook stock, and want to sell short 1000 shares at current price.

The initial margin is 50%.

(a) Assume that you earn no interest on the funds in your margin account. Facebook

currently does not pay dividend. Assume that you dont get any margin call during 2016.

What will be your holding period return in 2016 if the stock price of Facebook

(i) goes up by 10%

(ii) is still $75

(iii) goes down by 10% during the next year? (3 points)

(b) How high can stock price rise before you get a margin call, if the maintenance margin

is 25%? (2 points)

(a) It has a NAV per share of $20 on January 1, 2009. On December 31 of the same year,

the fund's NAV is $20.20. Income distributions were $1.19 and the fund had capital gain

distributions of $0.81. Without considering taxes and transactions costs, what is the total

rate of return to an investor in this fund during 2009? (1 points)

(b) Assume that fund ABC will keep the same rate of return for the next 10 years. It sells

Class A and B shares with different fee structures (shown in the following table). If you

plan to sell the fund after 3 years, are Class A or B shares the better choice for you? What

if you plan to sell after 10 years? (4 points)

Front-end load

Back-end load

Expense ratio

12b-1 fee

Class A

Class B

5%

0%

5% at the beginning of the first year, fall

by 1% every year (until 5th year)

0%

1.25%

1.5%

0%

0.5%

3. (20 points) You are considering the investment in stock XYZ. The stock price at the

end of this quarter is $50. The stock pays no dividends.

(a) Suppose your forecast regarding the distribution of stock price at the end of next

quarter is as follows:

State of the

Market

Probability

Ending

Price

Boom

0.20

$55

Normal

0.55

$53

Recession

0.25

$46.5

HPR

(next quarter)

Please fill out the table by computing the HPR in the next quarter in each state of the

market. Also compute the expectation and standard deviation of quarterly HPR on this

stock. Suppose that the current rate of return on 30-day T-bills is 5% and will be constant

over the next quarter, what is the quarterly risk premium and Sharpe ratio? (6 points)

(Note: the quoted 30-day T-bills rate is annual rate of return APR.)

(b) In reality, investors do not know the true distribution of stock returns. So we use

historical data to estimate the performance of this stock. We can observe the quarterly

rate of returns data of stock XYZ in the past 25 years (which is 100 quarters).

(i) If we only use the quarterly return data in the past four quarters: 12%, 5%, 7%, 8%, what are the arithmetic average, geometric average, and standard deviation of the

sample rate of return?

If we also observe the quoted 30-day T-bills rate in the past four quarters: 5.6%, 5.2%,

5.2%, 4.4%, what are the sample risk premium and Sharpe ratio? (5 points)

(ii) Discuss the advantage and limitation of previous time-series analysis using the

most recent return data. (4 points)

(iii) Now, we use all the 100 quarterly rate of returns data of stock XYZ. The statistics

of quarterly excess returns are given in the following table:

Statistic (Quarterly excess returns)

Performance (%)

Average

2.25%

VaR actual

-8.02

SD

6.12%

VaR normal

-7.82

LPSD

6.59%

-10.11

Skew

-0.6

-9.81

Kurtosis

0.94

Compute the Sharpe ratio and Sortino ratio. What does the distribution of excess returns

look like, based on these sample statistics? (5 points)

4. (10 points)

(a) On the basis of the utility formula above, which investment would you select if you

were risk averse with A = 4? (4 points)

(b) On the basis of the utility formula above, which investment would you select if you

were risk neutral? (2 points)

(c) Draw the indifference curve of Investment 3 with risk aversion A = 4. (4 points)

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